Quantitative Easing

How the hot UK labor market influences interest rate forecasts

Financial markets are expecting the Bank of England to raise interest rates as early as next spring, amid mounting evidence that a hot UK labor market is boosting wage and price inflation.

Before the hawkish turn of the central bank at its meeting last week, traders expected the first interest rate hike from the historic low of 0.1% to 0.25% at the end of 2022. But in the week following his meeting, they assessed in a change between the February and May meetings of next year.

The bank’s monetary policy committee has placed the labor market at the heart of its judgments and, unlike many economists, now believes the unemployment rate has peaked.

Christian Schulz, chief British economist at Citi investment bank, said: “If the bank is right and unemployment has already peaked, it will rise. [interest rates] in February.”

Data released since the BoE meeting has done nothing to suggest that the labor market is cooling even as the Delta coronavirus variant spread across the UK in July.

In their monthly report on labor market trends, the consultancy firm KPMG and the Confederation of Recruitment and Employment found that work placements barely fell from record levels in June and took off in regions previously weaker countries, particularly in London, where Covid-19 had hit jobs the hardest.

With low availability of staff and companies across industries facing serious recruitment challenges, the KPMG / REC survey found that the number of employers reporting increased wages rose in July to its fourth consecutive record .

Line chart of the UK Permanent Placement Index (above 50 = higher than the previous month) showing London leads job growth

Kate Shoesmith, deputy executive director of REC, said it was “the right time to look for a new job” and recruiters were struggling to meet employers’ demands.

However, the BoE is concerned that higher wages will force companies to raise prices, casting doubts on its central prediction that inflation will moderate in 2022 after peaking at nearly 4% later this year.

The MPC said last week that it would “closely monitor incoming evidence regarding labor market developments, and in particular unemployment, of broader measures of [in the economy] and the underlying wage pressure ”.

The committee was prepared to ignore what it saw as temporary “frictions” arising because certain sectors had suddenly opened up with many companies seeking staff simultaneously. But he added that he would be concerned about broader evidence of staff shortages leading to wage inflation.

At the August meeting, regional BoE officers highlighted a “shortage of heavy truck delivery drivers” and a greater shortage of people looking for work, but other data released after the meeting showed that the increase in the number of vacancies was much more important than logistics.

Data on job vacancies from Adzuna, the recruitment site, released by the Office for National Statistics, showed the volume of online job vacancies to exceed 2019 levels across all industries.

Job vacancies remain significantly higher than pre-pandemic levels Number of online job vacancies by category (100 = February 2020 average) G1336_21X

Tony Wilson, director of the Institute for Employment Studies, said the latest labor market evidence suggested unemployment was likely to fall from the 4.8% rate recorded by the ONS in the March quarter. to May.

“The big challenges, given the strong demand, will be to bring more people back into the labor market, to help the long-term unemployed [find jobs] and also help those who lose or change jobs to get a new one quickly, ”he said.

This point of view, however, depends on whether the Covid remains under control in the fall, allowing the economy to continue its strong recovery. If cases and hospitalizations increase, the rate of economic growth will slow, said Samuel Tombs, a British economist at consultancy Pantheon Macroeconomics, and if the pandemic intensifies with force in the fall, the BoE may even have to relax in new policy.

“Unlike last winter, the MPC would likely ease its policy first by reducing the bank rate, instead of extending quantitative easing,” Tombs said.

One of the traditional exhaust valves for the UK economy in times of labor shortages has been migration, especially under EU free movement rules.

However, it is unclear whether the lack of migrants is making labor shortages worse, according to Madeleine Sumption, director of the Migration Observatory at the University of Oxford. Covid has undermined the reliability of migration statistics, she said.

While it was likely that there had been no sudden exodus of aliens during the pandemic, Sumption said the evidence suggested that “it is certainly the case in 2020 that something quite extreme is happening. arrive at [inward] migration and there was much less. . . It’s a big break with the previous patterns ”.

At Treasury officials are quick to dismiss suggestions that Brexit and lack of migrant workers are causing labor shortages, except perhaps in London, but Chancellor Rishi Sunak worries about the consequences . He told friends that rising inflation and, perhaps, interest rates, are among his biggest concerns, adding to the pressures on public finances from the higher costs of servicing the public debt. .

The BoE’s hope is that ending the holiday program next month will reduce some of the labor market heat this fall. As the government withdraws its support, companies will have to take over or lay off hundreds of thousands of previously employed workers.

The MPC’s assumption that ending employment support initiatives will encourage many more people to look for work and reduce pressure on wages and prices underlies its forecast that only “modest” increases in interest rates will be required over the next three years.

He believes that beneath the hot surface there is “a significant amount of slack in the labor market”, but will want to see more evidence of a post-summer cooling to allow him to stay relaxed in the face of inflation until. ‘to the rest of 2021.


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